Michael Scott Silva, with Charles Schwab & Co., Inc. in Santa Rosa, CA, was fined $5,000 and suspended from association with any FINRA member in any capacity for 10 business days in connection with the recommendation to a customer to invest approximately $140,000 in a principal-protected note (PPN) without having reasonable grounds for believing the recommendation was suitable.

Ernest Park Kim, previously with Wells Fargo Investments, LLC in Los Angeles, CA, was fined $5,000 and suspended from association with any FINRA member in any capacity for 30 business days in connection with altering the date on a document that firm customers had previously signed and dated without the customers' knowledge, authorization or consent.

Ronald Arthur Knight, with Royal Alliance Associates, Inc. in Chino, CA, was barred from association with any FINRA member in any capacity in connection with the sale of interests in Universal Life Policies (ULPs) to members of the public, failing to provide his member firm with prior written notice about the sales, receiving approximately $30,270 in commissions from the sales.

Betty Lynn Saleh, previously with Wedbush Morgan Securities Inc. in Woodland Hills, CA, was named as a respondent in a FINRA complaint alleging that she recommended unsuitable transactions to customers without a reasonable basis to believe that the recommendations and resultant transactions would benefit the customers or were consistent with the customers' financial position, investment goals and objectives. The complaint also alleges that Saleh engaged in a pattern of withdrawing funds from annuities primarily to raise cash, with which she generated production credits and applied the proceeds to purchase of Closed-End Funds, Unit Investment Trusts, and mutual funds or reverse convertibles and then engaged in unsuitable excessive and short-term trading, causing the customer to incur cost with no substantial benefit for their portfolios. The complaint also alleges that Saleh placed false customer signatures on firm records and executed transaction in customer accounts without their prior knowledge or consent.
Wedbush Securities Inc. was censured and fined $28,000 in connection with stating incorrect written information to its customers, in that the firm failed to provide written notification disclosing its correct capacity in transactions to its customer; when it acted as principal for its own account, failed to provide written notification disclosing the correct reported trade price to its customer; and failed to provide written notification disclosing to its customer its correct capacity in transactions and the correct reported trade price.

Junior Kim, previously with UBS Financial Services in Beverly Hills, CA, was fined $5,000 and suspended from association with any FINRA member in any capacity for 30 days in connection with changing customer telephone numbers to report inaccurate information, without the customers' knowledge or authorization.

David Gustav Much, previously with AIG Financial Advisors, Inc. in El Segundo, CA, was fined $25,000 and suspended from association with any FINRA member in any capacity for five months in connection with recommending that his customers participate in a "Stock to Cash" program under which customers would pledge stock to obtain loans, the proceeds of which were, in many case, used to purchase non-securities insurance products; and some of Much's customers participated in that strategy at this recommendation, obtaining loans of more than $4.2 million. The findings stated that Much failed to conduct adequate due diligence concerning the Stock to Cash program lender, and did not understand the potential risks inherent in the strategy and therefore did not have a reasonable basis for his recommendations.

Cory Todd Schmelzer, with Sagepoint Financial, Inc. in San Diego, CA, was fined $7,500 and suspended from association with any FINRA member in any principal capacity for 15 days in connection with his failure to fulfill his supervisory responsibilities over the activities of a registered representative under his supervision, who recommended that his insurance business customers participate in a Stock to Cash program, obtaining loans of more than $4.2 million.

Kelvin Shaw, previously with Brecek & Young Advisors, Inc. in Temecula, CA, was barred from association with any FINRA member in any capacity in connection with his recommendation to certain customers to invest in a non-FINRA regulated investment group that operated as a commodity pool, which was exposed as a Ponzi scheme. Most of Shaw's firm customers lost a total of approximately $660,000 of their investments.

Shlomi Steven Eplboim, with Brookstone Securities Inc. in Tarzana, CA, and previously with Maxxtrade, Inc., was named as a respondent in a FINRA complaint alleging that Eplboim charged customers markups or markdowns in corporate bond transactions, which were not fair and reasonable, were not disclosed to customers and nothing in the nature of its business or in the bond trades justified the size of the markups or markdowns.

Ernesto Zuniga Gomez, previously with Merill Lynch, Pierce, Fenner & Smith Incorporated in San Diego, CA, was named as a respondent in a FINRA complaint alleging that he created Verbal Authorization Forms (VAFs) that falsely represented that clients had given him verbal authorization to transfer client funds from their account to other client accounts, thereby misusing customer funds.

Securities Fraud Alert: Ponzi scheme victims who purchased unregistered securities from the Draseena Funds Group and related companies (see table below) from a stockbroker or investment advisor may be able to recoup their investment losses through securities arbitration. Although not all claims for investment losses are actionable, investors who received false, misleading or incomplete information about the risks associated with these securities may have a cause of action for securities fraud, breach of fiduciary duty, negligence and/or failure to conduct due diligence. Please note that claims arising under state or federal laws are time sensitive and, therefore, must be brought within a specified period of time after these events occurred or should have been discovered or else they will be barred. Click here for more information about securities arbitration.

Today, the San Francisco Regional Office of the Securities and Exchange Commission (SEC) levied securities fraud charges against local investment advisors responsible for managing the American Pegasus Auto Loan Fund, a $100 million hedge fund that invested in subprime automobile loans. The SEC found that American Pegasus LDG and American Pegasus Investment Management--together with CEO Benjamin P. Chui, former portfolio manager Triffany Mok and former general counsel Charles E. Hall, Jr.--engaged in improper self-dealing, conflicts of interest and misuse of funds. The respondents entered into a settlement with the SEC subject to the following sanctions: Benjamin Chui agreed to payment of a $175,000 fine and a 3-year bar from association with any investment advisory firm; Charles Hall agreed to payment of a $100,000 fine and a 3-year bar from association with any investment advisory firm; Triffany Mok agreed to payment of a $75,000 fine and a 1-year bar from association with any investment advisory firm; and the investment advisor firms agreed to forgive $850,000 in unpaid advisory fees owed to the firms by the fund.

So who should invest in leveraged and inverse mutual funds and exchange traded funds (ETFs)? If anyone at all, it might be the highly knowledgeable and experienced day-trader with loads of money to burn. Fund companies such as Direxion and ProShares state on their websites that leveraged ETFs are not suitable investments unless you "understand the risks... [and] consequences" associated with them and are willing to actively manage your portfolio. On the other hand, the companies say they are inappropriate if you "don't understand" the risks and consequences, or if you're a long-term investor who doesn't plan on actively monitoring your portfolio. I would call this kind of advice lacking at best. While they make it clear that these funds inhabit some risk, they're still salesmen (don't ever forget it); and the main gist seems to be, "there's risk involved, but if you understand the risks, then go for it!" Understanding the risk is just the first step. You have to look at your own bigger investment picture to make an informed choice; think about your goals, needs, portfolio composition, and timeline.

I read somewhere that fewer than 1% of all investors should be involved with these risky, controversial funds. If you're reading this blog, you're probably a responsible, smart, retail investor with long-term goals and little to no risk tolerance. Basically, you're in the 99% of all other investors and they're probably not for you. But if you insist on dipping your toes in the water, as always, please be sure to consult a trusted financial adviser and always make sure you check out (and understand) the prospectus before you invest.

In June 2009, the Financial Industry Regulatory Authority (FINRA) responded to the explosion in popularity of leveraged and inverse mutual funds and exchange traded funds (ETFs) and the detrimental losses they've caused to many confused investors, by issuing a Regulatory Notice to brokers and firms. The telling notice says that these funds are "typically unsuitable for retail investors," and then proceeds to remind brokers of their duties and obligations to customers regarding ethical sales practices and recommendation suitability. Generally, a concern over a lack of risk disclosure and mitigation were at the heart of the alert. FINRA even reminds firms that close broker supervision is necessary to ensure that this warning is heeded. Two months later, the SEC and FINRA released a joint Investor Alert (only the second time they've done that) about leveraged and inverse ETFs and the confusion pervasive amongst investors. The alert focuses on the high risk and extreme short-term nature of these funds. Essentially, they're telling investors to avoid them like the plague.

To begin with, a very basic understanding of what leveraged mutual funds and exchange traded funds (ETFs) are and how they work is crucial to understanding their extreme risk. First, an issuer decides which index to track - this could be broad like the S&P 500 or more specific, like commodities or currencies. The goal is to outperform the indexes by doubling, and even tripling returns (depending on the fund - some names include "2x" and "3x" to denote the specific goal). Marketed as complex and sophisticated instruments for the common investor, leveraged ETFs are attempting to magnify daily market moves through the use of a massive amount of leverage (aka debt) and a strategy, which includes short sales, swaps, derivatives, options, and futures (many compare the strategy to trading on margin). Inverse ETFs work the same way, but in reverse, by betting on down-markets in an attempt to get multiplied inverse returns. Using leverage magnifies gains, but don't forget - losses are magnified too!

In order to achieve the phenomenal, promised returns for leveraged ETFs, managers must vigilantly watch over the funds, maintaining equal proportions of debt and equity at all times. For example, if the market drops, a manager will need to sell many shares in order to reduce the debt level and hold the necessary ratio. This applies to a bull market in reverse (ie. if the market goes up, shares must be bought to get back to the correct amount of leverage). This incredible amount of turnover through constant buying and selling increases exposure to the market, and therefore, volatility.

Let's take a step back - remember, the goal here is doubling the daily return, not annual, quarterly, or even weekly. This means that daily returns are compounded (or reset) at the close of each trading day. The ultimate effect of this strategy is that in the midst of daily debt/equity rebalancing within the fund, any losses are locked in and total asset levels decline. This game of musical chairs with portfolio holdings makes it harder to recover when the market rises again; these effects are amplified in times of market volatility. Financial experts have called this the "Constant Leverage Trap," and it can be responsible for negative returns over the long-term even if the market has been on an overall upswing due to the creation of multiple negative returns. So, buy-and-hold investors, beware: the longer they're held, the less correlation there is between the projected fund returns and the actual index performance.

Because leveraged ETFs may be bought and sold like stock, some sell themselves by claiming to offer greater market exposure with less capital requirements. But you'll find yourself paying in other ways. The incessant juggling of holdings (to maintain proper leverage ratios) results in higher management and commission fees, transaction costs, and short-term capital gains (a red flag for tax inefficiency).

There is no way to overemphasize this point: Leveraged ETFs are absolutely inappropriate for intermediate and long-term investors. Some financial experts say they're best suited for market-savvy day-traders, others say only financial professionals should dabble in these highly risky securities, and yet others contend that this breed of investment is best avoided by everyone. In fact, many professional brokers won't go near them anymore, with several major brokerage firms ending their sales.

Just like everyone else, investors may find themselves caught up in trends - especially when it looks like a lot of money can be made relatively easily. Leveraged and inverse mutual funds and exchange-traded funds (ETFs) are such trends, both developed and exploding in popularity only over the past few years. Some big name fund companies in this line of investments are Rydex, ProShares (sometimes traded as ProFunds), Direxion, and SGI. They are sold as either ETFs or mutual funds with promising names, which usually include words like "growth," "income," and "preferred." And, as is the case with leveraged ETFs, these funds assure investors that not only will they outperform any given index, but their returns will be double or triple that of the underlying index.

Inverse ETFs are just what the name implies - they seek to deliver the inverse (or opposite) of the tracked index. This is basically betting against the market and on declines. All of this sound great, right?!?! That's exactly why so many investors (and retirement funds) have fallen victim to them.